case study.., Financial Management

This case has been framed in order to test the skills in evaluating a credit request and reaching a correctdecision. Perluence International is large manufacturer of petroleum and rubber-based products used in avariety of commercial applications in the fields of transportation, electronics, and heavy manufacturing.In the northwestern United States, many of the Perluence products are marketed by a wholly-ownedsubsidiary, Bajaj Electronics Company. Operating from a headquarters and warehouse facility in SanAntonio, Strand Electronics has 950 employees and handles a volume of $85 million in sales annually.About $6 million of the sales represents items manufactured by Perluence. Gupta is the credit manager atBajaj electronics. He supervises five employees who handle credit application and collections on 4,600accounts. The accounts range in size from $120 to $85,000. The firm sells on varied terms, with 2/10, net30 mostly. Sales fluctuate seasonally and the average collection period tends to run 40 days. Bad-debtlosses are less than 0.6 per cent of sales. Gupta is evaluating a credit application from Booth Plastics, Inc.,a wholesale supply dealer serving the oil industry. The company was founded in 1977 by Neck A. Boothand has grown steadily since that time. Bajaj Electronics is not selling any products to Booth Plastics andhad no previous contact with Neck Booth. Bajaj Electronics purchased goods from PerluenceInternational under the same terms and conditions as Perluence used when it sold to independentcustomers. Although Bajaj Electronics generally followed Perluence in setting its prices, the subsidiaryoperated independently and could adjust price levels to meet its own marketing strategies. The Perluence''scost-accounting department estimated a 24 per cent markup as the average for items sold to PuccaElectronics. Bajaj Electronics, in turn, resold the items to yield a 17 per cent markup. It appeared thatthese percentages would hold on any sales to Booth Plastics. Bajaj Electronics incurred out-of pocketexpenses that were not considered in calculating the 17 per cent markup on its items. For example, thecontact with Booth Plastics had been made by James, the salesman who handled the Glaveston area.Examination Paper Semester I: Financial ManagementIIBM Institute of Business ManagementJames would receive a 3 per cent commission on all sales made Booth Plastics, a commission that wouldbe paid whether or not the receivable was collected. James would, of course, be willing to assist incollecting any accounts that he had sold. In addition to the sales commission, the company would incurvariable costs as a result of handling the merchandise for the new account. As a general guideline,warehousing and other administrative variable costs would run 3 per cent sales. Gupta Holmsteadapproached all credit decisions in basically the same manner. First of all, he considered the potentialprofit from the account. James had estimated first-year sales to Booth Plastics of $65,000. Assuming thatNeck Booth took the, 3 per cent discount. Bajaj Electronics would realize a 17 per cent markup on thesesales since the average markup was calculated on the basis of the customer taking the discount. If NeckBooth did not take the discount, the markup would be slightly higher, as would the cost of financing thereceivable for the additional period of time. In addition to the potential profit from the account, Gupta wasconcerned about his company''s exposure. He knew that weak customers could become bad debts at anytime and therefore, required a vigorous collection effort whenever their accounts were overdue. Hisdepartment probably spent three times as much money and effort managing a marginal account ascompared to a strong account. He also figured that overdue and uncollected funds had to be financed byBajaj Electronics at a rate of 18 per cent. All in all, slow -paying or marginal accounts were very costly toBajaj Electronics. With these considerations in mind, Gupta began to review the credit application forBooth Plastics.Question:1. How would you judge the potential profit of Bajaj Electronics on the first year of sales to BoothPlastics and give your views to increase the profit.2. Suggestion regarding Credit limit. Should it be approved or not, what should be the amount ofcredit limit that electronics give to Booth Plastics